Statement by Ngueto Yambaye, Executive Director for Djibouti and Mr. Abdoulaye Tall, Senior Advisor, January 30, 2015

This 2014 Article IV Consultation highlights that Djibouti is undergoing an investment boom that would accelerate economic growth. Aggregate investment is projected to rise from 26 percent of GDP in 2010-13 to 52 percent in 2014-16. GDP growth is expected to rise from 6 percent in 2014 to about 7 percent in 2015-19. Inflation is projected to pick up from 3 percent in 2014 to 3.3 percent in 2015-19 as the large investment spending fuels demand for housing and basic services. Central bank gross foreign assets are projected to remain strong, permitting full currency board coverage over the period 2015-19.

Abstract

This 2014 Article IV Consultation highlights that Djibouti is undergoing an investment boom that would accelerate economic growth. Aggregate investment is projected to rise from 26 percent of GDP in 2010-13 to 52 percent in 2014-16. GDP growth is expected to rise from 6 percent in 2014 to about 7 percent in 2015-19. Inflation is projected to pick up from 3 percent in 2014 to 3.3 percent in 2015-19 as the large investment spending fuels demand for housing and basic services. Central bank gross foreign assets are projected to remain strong, permitting full currency board coverage over the period 2015-19.

I. Introduction

Djibouti has made significant stride recently in achieving high growth rates and reducing poverty. The authorities’ policies, in particular improvements to the investments climate and socio-political stability, helped usher a boom in foreign direct investment and financing for major infrastructure projects.

Djibouti’s strategic location, as a preferred port outlay for landlocked east African countries, and at a critical juncture for global maritime and trade routes, provides it with unique opportunities and also challenges. The authorities are determined to leverage Djibouti strengths to enhance the region’s growth prospects and address the high unemployment and poverty rates.

As noted by staff, extreme poverty and unemployment rates remain high, at 41.9 and 48 percent respectively in 2012. Translating high economic growth rates into job creation, particularly for the youth, remain an essential priority for the authorities. To that regard, they recently adopted a strategic framework to turn Djibouti into an Emerging market economy status, Djibouti Vision 2035 and the Accelerated Growth Strategy for Employment Creation, which lays out the governments’ long term priorities, and will inform medium term reforms, and current policies.

Djibouti’s authorities are appreciative of the Fund’s constructive policy dialogue and the technical assistance provided over the years in furthering their growth and macroeconomic stability agenda. As well reflected in the report, the authorities have implemented, to a greatest extent, Fund’s previous Article IV consultations advice- Cf. Annex V of the staff report, and there is a broad agreement between the authorities and Fund staff on the challenges facing Djibouti going forward. To help support their reforms efforts, and increase the traction of the Fund’s advice further, the authorities reiterate their interest in a program with the IMF.

II. Recent Developments and Outlook

Economic growth accelerated in Djibouti, driven by the scaling up of investments in priority infrastructure projects. Inflation remained subdued and significantly below the rate registered in comparable economies, including due to the strong currency board anchor. The current account deficit is expected to initially deteriorate while capital investment and heavy equipment imports are absorbed, and to gradually revert as the projects’ production cycle mature.

Fiscal policy sought to further the authorities’ growth and poverty reduction agenda, while containing fiscal risks. The implementation of fiscal and tax administration reforms, increased revenues from the leasing of military bases, as well as lower oil prices and improved recovery of tax payment arrears, helped generate higher fiscal revenues.

On spending, the authorities moved forward with investment for key water, transportation and energy projects, while containing non priority spending. The investment in the major water generation and transport project will contribute to reducing the severe drinking water shortages, and help achieve one of Djibouti’s Millennium Development Goals. The regional electric power interconnection and railroad projects will help strengthen Djibouti’s competitiveness, while reducing the cost of doing business related to high electricity and transportation costs.

While the authorities sought to improve the share of investment in the budget, they also strived to contain non-priority spending. Hence, public sector hiring was limited to education and health sectors in an effort to control the wage bill. On social spending, the authorities benefited from the technical expertise, and support from the World Bank in designing and implementing well targeted social safety nets for the poor and vulnerable households notably in Djibouti-ville and in fragile rural areas. In this vein, progress was made towards building a registry of the poor to better target social spending.

As regards monetary policy, the authorities’ continued to maintain the coverage of base money in foreign reserves at a level comfortably above the full coverage legal requirement of the currency Board. They took steps to enhance the supervision of the financial system, with the issuance of new instructions and prudential regulation, notably for commercial banks. Although there has been no recent deterioration of the banking system’s health indicators, the authorities are closely monitoring the compliance of the financial system to prudential regulation, including in particular the provisioning for non-performing loans, as well as the banks’ loan concentration. The authorities have stepped up onsite inspections, and are prepared to forcefully act should risks increase.

On structural reforms, the authorities continued to make progress towards improving public sector efficiency, particularly of public utilities. In this vein, they initiated a comprehensive public enterprise reform program covering the ten largest public enterprises. They also initiated reforms to streamline business regulation with the view to improving further the climate for business.

III. Policies Going Forward

Job Creation and Poverty Reduction

The authorities broadly share staff’s diagnostic and recommendations for reducing the widespread poverty and unemployment. The Government recently launched its homegrown strategic development plan, Djibouti Vision 2035 after extensive consultations with the private sector, civil society organizations, and development partners, including the World Bank. The plan recognizes the essential role of the private sector as an engine for growth, and calls for reforms to improve the climate for business, as well as substantial investments in infrastructure to reduce the cost of doing business, particularly in the area of electric power, water, transport, and telecommunication.

Economic diversification is another key axis of the strategy to create jobs and reduce the economy’s vulnerability to shocks, with tourism development and the promotion of small and medium sized enterprises as immediate priority action areas.

In order to promote economic growth and poverty reduction, the government plans to improve the governance and efficiency of public social transfers, improve access to finance for the poor, and promote stronger linkages between training programs and employers to better match the needs of companies.

Fiscal Sustainability

The authorities recognize the fiscal risks highlighted by staff, and remain committed to fiscal consolidation with the view to achieving its jobs and poverty reduction objectives while preserving fiscal sustainability. The reforms planned will be multi-pronged. To increase revenues and improve the transparency and efficiency of the tax code, they are convening a fiscal forum this year that is expected to make a comprehensive proposal, including with regard to closing tax loopholes, reviewing the cost effectiveness of generous investment tax incentives, and improving the fairness of the tax code.

On spending, the authorities plan to continue restraining non-priority spending, including by pursuing the hiring freeze outside of the health and education sectors aimed at containing the wage bill. They are committed to ensuring that investments are properly appraised going forward and contribute to achieving their development objectives. They will further seek to revert to a balanced budget, and will implement reforms aimed at strengthening the fiscal policy framework, including by adopting a medium term fiscal framework.

The authorities plan to deepen reforms aimed at improving the governance and balance sheets of public enterprises to ensure that the scaled up public investments in infrastructure are sustainable in the long run. Amongst other reforms, they plan to improve the competiveness of the telecommunication industry by considering the entry of additional operators in the sector, and to strengthen the management of the water company, ONEAD.

The authorities are committed to improving spending efficiency and public financial management, with the valuable technical assistance provided by the Fund and other development partners.

External and Financial Stability

The Central Bank of Djibouti will continue to ensure that the coverage of base money is comfortably above the legal target. The authorities welcome the IMF’s assessment that Djibouti’s external stability is well anchored, and will continue to strengthen the regulation of the financial sector and supervisory capacity. They will also enforce prudential regulation, including the higher provisioning requirements for commercial banks, and the AML/CFT framework.

Promoting financial inclusion is also priority reform area for the authorities. With the support of the World Bank, they plan to modernize the payment system, and improve access to financing, particularly for small and medium sized enterprises, and the poor.

Debt Sustainability

The authorities take good note of staff’s advice on debt sustainability especially on non-concessional borrowing contracted after the previous ECF program had expired. The limitations of the Debt Sustainability analysis methodologies are well recognized by the Fund, in the context of small emerging economies like Djibouti where a handful of projects could lead to a substantial change in the debt sustainability profile. The authorities also welcome staff’s own recognition that the DSA models which are country specific are not well equipped to assess the impact of projects with a regional dimension.

Notwithstanding these caveats, the authorities take note of the concerns expressed by staff and will take appropriate measures to preserve debt sustainability. As above mentioned, they are taking steps to ensure that debt-financed investments are properly appraised, and generate the revenues needed to service the debt, while crowding in FDI. Even though they note that the DSA’s stress test scenario of an exchange rate shock is highly unlikely given the currency board’s arrangement, the authorities plan to continue efforts aimed at diversifying the economy to promote job creation and broaden the productive basis of the economy. They are also strengthening further debt management capabilities, including through better coordination between the agencies involved and improved integration into the budget planning of debt service-related liquidity needs.

IV. Conclusion

Djibouti’s authorities have been implementing an ambitious policy agenda aimed at turning Djibouti into an emerging market economy, while reducing unemployment and widespread poverty. They have a track record of implementing sound policies which benefited from Fund’s advice.

Djibouti continues to face significant challenges in mitigating fiscal risks, while pursuing their inclusive growth strategy. The authorities’ had been actively seeking an IMF supported program as they are convinced that the Fund’s advice would have had more traction in the context of a program. Based on their overall strong track record of implementing Fund advice, and given that they have already implemented the prior-actions approved by the Board for a new program arrangement, Directors’ support for the Fund to engage program discussions with the authorities at the earliest will be greatly appreciated.